Written by Steven Hansen
Recently a post from the St Louis Fed stated “even though the economy looks good right now, the next recession may be lurking just around the corner“.
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I am not picking on this post as it is written in a style where it argued both sides of the recession issue. This post was worth contemplating, and stated in part:
In U.S. economic history, it seems the longer an economic expansion continues, the lower the unemployment rate becomes. Thus, if a long economic expansion increases the likelihood of a recession, as the idea of positive duration dependence suggests, then a low unemployment rate may indeed suggest the increased likelihood of recession.
That said, positive duration dependence is one of many factors affecting the business cycle. In a 2010 study, economist Vitor Castro concluded that, while there is evidence for positive duration dependence, several other variables also play a major role in determining the business cycle.
Historically, it is true that an uptick in the unemployment rate has been a sign of an impending recession.
- The trick is to see the uptick in real time.
- Only half of the obvious upticks resulted in a recession.
- One good element of using unemployment is that it is generated from the BLS household survey – which does not have backward revision.
The above graph uses both the U-3 (red and purple lines – this is the headline unemployment) and U-6 (blue and green – this includes unemployed, plus marginally attached workers, plus part time workers who would rather work full time) BLS unemployment rate. The difference is that the red and blue lines show the unemployment rate percentages, whilst the green and purple lines show the percent change YoY. It is interesting to note that it makes little difference when analyzing the change in the unemployment rate year-over-year whether one uses the U-3 or U-6 data.
When using the percent change YoY of unemployment, an uptick shows almost a year of warning before a recession (it also shows as many false recession warnings).
Using a single litmus test to forecast anything is dangerous. And even more so for something as complex as the business cycle.
Along the same lines, some believe that the market controls the economy – in other words a major market correction could create a recession. It surely was true in 1929. But it was not true on Black Monday (1987). Generally though, the markets and the economy generally move in the same direction. The following graph is from Business Insider:
I have issues with the way recessions are currently identified including the methodology, and how the start and the ending dates are determined. The Great Recession was over and the unemployment rate was 10%, and retail sales were down 10% year-over-year.
Some things in the economy “recess” far longer than the official recession lasts.
The stock market valuation is what it is – with no backward revision of data, or would have massive lag times where it took a YEAR to identify that a recession has started. The markets roughly follow the business cycle. And using the market to determine a recession means it does not take a group of intellectual geniuses to quantitatively determine a recession event.
Would we be better off if we used the market movements to identify recessions?
Other Economic News this Week:
The Econintersect Economic Index for February 2018 Economic Index declined and returned to territory associated with modest economic growth. Note that this index has been in a general down trend since July 2017
Bankruptcies this Week from bankruptcydata.com: none
